China Stocks Fall on Concern Economic Growth is Slowing, Inflation Rising

China’s stocks fell, driving down the benchmark index by the most in a week, on concern higher material prices will fuel inflation and the nation’s tightening policies are slowing the world’s second-biggest economy.

Air China Ltd. and China Southern Airlines Co. led losses for airlines after an industry group cut its forecast for carriers’ profit because of oil prices. China CNR Corp., the nation’s second-biggest trainmaker, slid to the lowest this year on investors’ speculation spending in railways will slow. China Merchants Bank Co. rose 4.2 percent, leading gains for financial companies, as Sanford C. Bernstein became the latest brokerage to predict lenders’ earnings may exceed estimates.

“The inflationary pressure is still there and controlling inflation will be the government’s priority throughout the year,” said Wu Kan, a Shanghai-based fund manager at Dazhong Insurance Co., which oversees $285 million. “It’s difficult for stocks to perform well in an inflationary environment.”

The Shanghai Composite Index, which tracks the bigger of China’s stock exchanges, slid 10.8 points, or 0.4 percent, to 2,902.98 at the 3 p.m. close, as three stocks fell for every one that advanced. The CSI 300 Index slipped 0.7 percent to 3,221.72. The CSI Smallcap 500 Index slumped 2 percent.

China’s stocks rose earlier today on the prospect the government’s plan to reduce the tax burden for individuals will boost consumer spending. The legislature is holding annual meetings in Beijing and investors speculate it will introduce policies to increase domestic consumption and spur investment in new areas such as technology and alternative energy.

Tightening Outlook

The Shanghai gauge has advanced 3.4 percent this year, after plunging 14 percent in 2010, on signs the world’s second- biggest economy is withstanding tightening measures. The central bank has boosted banks’ reserve requirement ratio eight times since the start of 2010, while raising interest rates three times to rein in inflation that reached 4.9 percent in January, near the 28-month high of 5.1 percent in November.

The central bank will raise the reserve requirement ratio “shortly” to ease liquidity pressure, the China Securities Journal reported on its front page today, citing analysts. Yuan positions at Chinese banks accumulated from sales of foreign exchange to the central bank will remain high in short term, the report said, citing analysts.

The non-manufacturing purchasing managers’ index fell to 44.1 in February from the previously reported 56.4 in January, according to a statement released today by the Beijing-based National Bureau of Statistics and the Federation of Logistics and Purchasing. A reading above 50 indicates an expansion.

Air China, the nation’s biggest international carrier, dropped 1.8 percent to 11.47 yuan. China Southern Airlines, the largest domestic carrier, slid 2.1 percent to 8.51 yuan.

Airlines Outlook

The International Air Transport Association yesterday cut its forecast for this year’s profit in the airline industry to $8.6 billion from the $9.1 billion projected three months ago, as rising oil prices limit the benefits of a rebounding economy.

Oil dropped from the highest close in 29 months in New York, falling as low as $100.37 a barrel. Crude fell as much as 1.8 percent, the biggest intraday decline in a week, after the Wall Street Journal reported that Venezuelan President Hugo Chavez called Libyan leader Muammar Qaddafi and offered to help create a multinational mediation commission.

China CNR fell 3.1 percent to 7.77 yuan, the lowest since Dec. 31. China Railway Construction Corp., builder of more than half of the country’s railroads, lost 0.4 percent to 7.05 yuan.

“The market is telling us the downfall of the two major players in the Ministry of Railways is bad for rail stocks because investment in high-speed rail may slow,” said Zhang Qi, an analyst at Haitong Securities Co. in Shanghai. “These stocks were really ramped up before and now there’s doubts whether their earnings growth can be sustained.”

Banks Gain

The official Xinhua News Agency reported Feb. 12 former Railways Minister Liu Zhijun Liu was under investigation on accusations of accepting bribes. The government also removed Zhang Shuguang as deputy chief engineer at the Ministry of Railways as authorities investigate him for alleged “severe violation of discipline,” Xinhua reported yesterday.

A gauge of financial companies in the CSI 300 gained 0.9 percent, the only industry group to advance. China Merchants Bank rose 4.2 percent to 14.03 yuan. Industrial & Commercial Bank of China Ltd., the nation’s biggest lender, advanced 0.5 percent to 4.30 yuan. China Construction Bank Corp., the second- largest, climbed 1.4 percent to 4.94 yuan.

Mike Werner and Wangshu Qiu, Hong Kong-based analysts at Bernstein, boosted their 2011-12 earnings estimates for banks by an average of 7 percent to reflect higher net interest margins because of increases in the nation’s interest rates. They predict “strong” first-quarter earnings for banks and “prefer” ICBC and China Construction Bank because they can “take advantage” of the tightening environment.

Tax Changes

While the central bank has boosted borrowing costs three times since early 2010, the demand deposit rate has increased once, according to data compiled by Bloomberg.

The State Council approved an amendment to the individual income tax law which will raise the threshold for income taxes, according to a statement on the government website yesterday. The government intends to reduce the tax burden for low-income individuals and adjust income tax rates, it said.

China’s legislature will hold its annual plenary meetings from March 5 to March 15 in Beijing, during which time they wi review and approve the government’s economic development plans covering the five years from 2011 through 2015.

The government set an economic growth target of 7 percent for the five-year plan period, Premier Wen Jiabao said last weekend. China’s target was 7.5 percent for the period from 20 through last year, with actual growth exceeding that each year Growing inequality is a threat to social stability, he said.

--Zhang Shidong. Editor: Allen Wan, Richard Frost

To contact Bloomberg News staff for this story: Zhang Shidong in Shanghai at +86-21-6104-3040 or szhang5@bloomberg.net

To contact the editor responsible for this story: Darren Boey at dboey@bloomberg.net

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